There are many different types of stocks. Two of the most common groups of stocks are growth stocks, and dividend stocks. Growth stocks are companies that have high revenue and earnings growth. In many cases, growth stocks do not pay dividends, and trade for high valuations.
On the other hand, some stocks pay their shareholders regular cash distributions on a quarterly, annual, or semi-annual basis. These distributions are accounted for as dividends, hence the classification of dividend stocks. Not all stocks fit neatly into the growth or dividend category…
Starbucks (SBUX) is a rare combination of growth and dividends all in one stock. The company has high growth potential in the years ahead, thanks to aggressive international expansion. Meanwhile, the stock pays a 2.6% dividend yield, and could grow the dividend by at least 10% each year.
Serving Up Growth Overseas
Starbucks is a true empire. It has approximately 28,000 stores spread out across nearly 80 countries around the world. It has built itself into a coffee powerhouse, and continues to expand its reach to new locations. In April, the company opened its first store in Uruguay. In September, Starbucks entered Italy by opening a new roastery in Milan. Starbucks is also developing a new roadmap for further penetration of the packaged coffee market, through a partnership with Nestle. Under the terms of the agreement, Nestle will pay Starbucks $7.15 billion, to bring the Starbucks brand to regional consumer markets.
Perhaps the most exciting aspect of Starbucks’ growth plan is the potential for expansion in China, one of the premier emerging markets in the world. China has a huge population of roughly 1 billion, with an expanding middle class and high economic growth. Starbucks estimates the middle class in China will double from 2018 to 2022, to 600 million people.
Even better, coffee consumption is relatively low in China—according to Starbucks, the average Chinese consumer drinks less than 1 cup of coffee per year. This compares with 300 cups of coffee for the average American consumer. The potential for expansion in China is very compelling. Starbucks already has 6,000 stores in China, but it plans to open 600 new stores each year in China going forward. By 2022, Starbucks management states the company will have stores in an additional 100 cities.
Starbucks is still generating strong growth rate. Revenue increased 10% over the first three quarters of the current fiscal year. For the full year, Starbucks expects 17% earnings growth at the midpoint of 2018 guidance. Expansion in China means Starbucks’ high growth could continue for many years. The company is expected to grow earnings-per-share by 12% per year over the next five years. In the meantime, the stock rewards shareholders with a solid dividend.
Dividends On The Menu
Starbucks’ share price has declined 3% since the beginning of 2018. The stock has underperformed the S&P 500, which is up 10% year-to-date. Investor sentiment has become more pessimistic this year, likely due to the company’s slowing growth in the United States. Comparable sales rose 2% in the Americas segment over the first three quarters of fiscal 2018, a material slowdown from growth in recent years. Starbucks expects to close roughly 150 under-performing stores next year, which will further impact domestic growth.
However, the partnership with Nestle will help Starbucks maintain a positive growth rate in the U.S., and the massive potential for international growth means Starbucks stock could be undervalued. Shares trade for a price-to-earnings ratio of 23. Starbucks stock is not significantly undervalued, but it does not seem to be expensive either. In the past 10 years, the stock traded for an average price-to-earnings ratio of 22. Starbucks seems to be fairly valued right now.
Starbucks shareholders will benefit from the company’s high rate of earnings growth, as the company grows the dividend at a high rate as well. Starbucks’s most recent quarterly dividend was increased 44% from the same quarter a year ago.
Starbucks has a current dividend yield of 2.6%, which is above the average dividend yield in the S&P 500, and represents an attractive yield for income investors. As a result, the combination of earnings growth and dividends could generate annual returns of 14% to 15% over the next five years.
Ben Reynolds is CEO of Sure Dividend. Sure Dividend helps individual investors build high quality dividend growth stock portfolios for the long run.
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